FAQ: Should I be paying estimated tax or having more withheld instead?

Some individuals must pay estimated taxes or face a penalty in the form of interest on the amount underpaid. Self-employed persons, retirees, and nonworking individuals most often must pay estimated taxes to avoid the penalty. But an employee may need to pay them if the amount of tax withheld from wages is insufficient to cover the tax owed on other income. The potential tax owed on investment income also may increase the need for paying estimated tax, even among wage earners.

The trick with estimated taxes is to pay a sufficient amount of estimated tax to avoid a penalty but not to overpay. The IRS will refund the overpayment when you file your return, but it will not pay interest on it. In other words, by overpaying tax to the IRS, you are in essence choosing to give the government an interest-free loan rather than invest your money somewhere else and make a profit.

When do I make estimated tax payments?

Individual estimated tax payments are generally made in four installments accompanying a completed Form 1040-ES, Estimated Tax for Individuals. For the typical individual who uses a calendar tax year, payments generally are due on April 15, June 15, and September 15 of the tax year, and January 15 of the following year (or the following business day when it falls on a weekend or other holiday).

Am I required to make estimated tax payments?

Generally, you must pay estimated taxes in 2012 if (1) you expect to owe at least $1,000 in tax after subtracting tax withholding (if you have any) and (2) you expect your withholding and credits to be less than the smaller of 90 percent of your 2012 taxes or 100 percent of the tax on your 2011 return.  There are special rules for higher income individuals.

Usually, there is no penalty if your estimated tax payments plus other tax payments, such as wage withholding, equal either 100 percent of your prior year's tax liability or 90 percent of your current year's tax liability. However, if your adjusted gross income for your prior year exceeded $150,000, you must pay either 110 percent of the prior year tax or 90 percent of the current year tax to avoid the estimated tax penalty. For married filing separately, the higher payments apply at $75,000.

Estimated tax is not limited to income tax. In figuring your installments, you must also take into account other taxes such as the alternative minimum tax, penalties for early withdrawals from an IRA or other retirement plan, and self-employment tax, which is the equivalent of Social Security taxes for the self-employed.

Suppose I owe only a relatively small amount of tax?

There is no penalty if the tax underpayment for the year is less than $1,000. However, once an underpayment exceeds $1,000, the penalty applies to the full amount of the underpayment.

What if I realize I have miscalculated my tax before the year ends?

An employee may be able to avoid the penalty by getting the employer to increase withholding in an amount needed to cover the shortfall. The IRS will treat the withheld tax as being paid proportionately over the course of the year, even though a greater amount was withheld at year-end. The proportionate treatment could prevent penalties on installments paid earlier in the year.

What else can I do?

If you receive income unevenly over the course of the year, you may benefit from using the annualized income installment method of paying estimated tax. Under this method, your adjusted gross income, self-employment income and alternative minimum taxable income at the end of each quarterly tax payment period are projected forward for the entire year. Estimated tax is paid based on these annualized amounts if the payment is lower than the regular estimated payment. Any decrease in the amount of an estimated tax payment caused by using the annualized installment method must be added back to the next regular estimated tax payment.

Determining estimated taxes can be complicated, but the penalty can be avoided with proper attention. Please contact us at (949) 453-1521 or taxalert@maxwellcompany.com if we can help you determine whether you owe estimated taxes$$

Tax Impact of Health Care Law

Plan now for the tax impact of the health care law

Did you adopt the wait-and-see approach to tax planning this summer? With the Supreme Court decision on the health care act removing a level of uncertainty and the end of the year approaching, it’s time to stop waiting and start doing.

Here are three questions to consider.

• How will the increased medical deduction threshold affect me? Beginning in 2013, your unreimbursed medical expenses will have to exceed 10% of your adjusted gross income in order to claim an itemized deduction, unless you’re 65 or over. For your 2012 federal income tax return, the threshold is still 7.5%.
  
  
  Tip: Consider shifting elective medical expenses into 2012.

• Should I convert my Roth in 2012? Starting January 2013, a 3.8% tax on unearned income such as capital gains, dividends, and interest applies if your modified adjusted gross income (MAGI) is more than $200,000 ($250,000 for married filing jointly). Distributions from Roths do not increase your MAGI - but conversions do.
  
  
  To do: Calculate your tax exposure before year-end.

• Will the additional Medicare tax on earned income apply to me? The new 0.9% Medicare surtax takes effect in January 2013, and will apply when your compensation and self-employment income exceeds $200,000 ($250,000 when you’re married filing jointly). Your employer is only required to take your wages into consideration when withholding the tax.
  
  
  Result: Your estimated tax payments or withholding amounts might need to be adjusted next year.

Please call us at (949) 453-1521 or email us at taxalert@maxwellcompany.com to discuss how the health care law will affect your taxes for 2012 and future years $$

2011 Schedule C changes

Note these 2011 Schedule C changes

Tax laws and information reporting requirements continue to change — and so do tax forms. Schedule C, the form you include with your federal tax return to report income from your sole proprietorship, is no exception.

Here are two changes to the 2011 Schedule C.

New informational questions. Did you pay rent or hire an independent contractor to perform services for your business during 2011? For payments to certain vendors that total more than $600, you're required to complete Form 1099-MISC — and the IRS wants to make sure you do. Two new questions on the 2011 Schedule C ask about your information return filing responsibilities.

New reporting for gross receipts. You might have noticed Line 1a, merchant card and third party payments, in the income section of your Schedule C.Ignore it.Why? The requirement for reporting this category of receipts separately from other types of income was suspended after Schedule C was printed. For 2011, you can report your total sales on Line 1b, gross receipts or sales.That's true even if you get one or more Forms 1099-K, the new information return that shows the amounts your business received during 2011 from credit card sales or third party networks such as PayPal.

Got other questions about the new Schedule C? Give us a call at (949) 453-1521 or email us at taxalert@maxwellcompany.com We'll keep you up to date with the latest developments$$

Health Insurance Premium Credit

Is your business eligible for the health insurance premium credit?

February, 2012

Remember the postcard you got from the IRS last year introducing the health insurance premium credit for small businesses? To paraphrase the old song, there's no letter in the mail for you this year.

Your business can still get the credit, though. When you qualify, you can use it to offset your federal income tax liability by up to 35% of the cost of health insurance premiums you pay for employees.

Three general tests for eligibility are:
Employing fewer than 25 "full time equivalent" employees.
Paying average annual wages of less than $50,000.
Paying at least 50% of health insurance premiums for those employees.
Each test has specific requirements. For example, you may qualify for the credit, in full or in part, when you have more than 25 employees. That's because "full time equivalent" is based on hours your employees worked during the year.

In addition, some employees aren't counted for purposes of the credit, such as seasonal staff who were on the payroll for less than 120 days. Other excluded workers are sole proprietors, owner/employees, and shareholders who own more than 2% of the stock of an S corporation.
According to a recent report, many businesses that qualify for the health insurance premium credit fail to take it. Give us a call at (949) 453-1521 or email us at taxalert@maxwellcompany.com. We'll make sure you get full benefit of all the tax breaks available to you$

How to be "audit ready"

February 2012

How to be "audit ready"

No one likes to see a policeman's flashing lights in the rearview mirror, and no one likes to receive a phone call or letter from the dreaded auditor. But if you operate a business or your organization receives federal or state grants, at some point you may find auditors making that contact. And while it's true that only a small percentage of individual taxpayers suffer through an IRS audit in any given year, it makes sense to be prepared—just in case. One key to being ready is knowing how auditors think.

Why can't they just take my word for it? Auditors are trained to be skeptical. In fact, they're required by professional standards to maintain questioning minds while performing their duties. They don't necessarily assume that you're dishonest, but they won't put much stock in your honest face and sparkling personality either. If you claim a deduction for charitable contributions, for example, an auditor doesn't really care whether or not you're a generous person. He or she will want to see proof that you actually donated the amount of money that's listed on your tax return. If your business says it incurred certain expenses while entertaining clients, the auditor may need to examine actual restaurant receipts. To an experienced auditor, skepticism is second nature. Don't take it personally.

Show me the documents. Auditors love documentation. It makes their job easier. When you can put your hands on an invoice that exactly matches the amount claimed on your federal form, you may actually bring a smile to an auditor's face. On the other hand, if he or she asks for supporting documents and you hem and haw and search for hours, be prepared for trouble. They're not mad at you. They just have a job to do, and the burden of proof is on you. The best way to prepare for an audit is to maintain good records throughout the year. Stay organized. Know how to find your documents and be ready to support every number claimed.

Having good records and thinking like an auditor can make actually going through an audit much easier. If you need assistance at any point, contact our office at (949) 453-1521 or email us at taxalert@maxwellcompany.com$$

Keys to getting a small business loan

January 2012

Keys to getting a small business loan
Before a start-up company can begin producing revenue, it often needs an infusion of cash that exceeds owner contributions. Even long-established firms sometimes must borrow to purchase inventory, buy real estate, expand operations, meet payroll, or keep the lights on. When business owners turn to banks and other financial institutions for help, some are offered loans; others walk away empty handed.

Why the difference? If you've read the financial press in recent years, you know that many banks have been burned. Some with lax underwriting practices extended credit to companies that went bankrupt. Even some strong institutions failed when large loans weren't repaid. Those that survived may be licking their wounds and rethinking their lending practices. As a result, your bank may be reticent to extend credit to a company that lacks a proven track record or that's otherwise perceived as a bad risk.

But even if your bank is willing to extend credit, don't sabotage your efforts by failing to prepare adequately. Increase your chances of getting a business loan by following these suggestions:

Show that you have a detailed business plan. Putting your ideas, projections, and assumptions on paper can uncover gaps in your logic and flaws in your research. Your business plan should lay out market research, financial projections, start-up costs (if applicable), and assumptions. Show how you're going to spend every dollar of the loan proceeds to generate revenue. Consider the plan from the other side of the table. Would you lend money to a company that lacks a credible strategy?

Show that you're capable. Lenders must have confidence in you. Convince them. Show that the combination of your management team's education, skills, and work ethic will lead to success. To demonstrate your ability to repay the loan, you may be asked to share your credit report and tax returns. If you've struggled to meet prior obligations, be ready with explanations, including evidence of extenuating circumstances.

Show that you're invested. Lenders often look kindly on business partners who have pumped a substantial amount of their own savings into a company. Before applying for a business loan, plan to document that at least 25% of the firm's equity has come from the personal assets of its owners and investors. From a lender's perspective, such an investment demonstrates a commitment to see the company through hard times — and to pay back the loan.

Please call us at (949) 453-1521 or email us at taxalert@maxwellcompany.com if you have any questions$$

Are you an Active Participant?

January 16, 2012

Are you an active participant in your employer's retirement plan?

A "yes" answer can affect your federal income tax deduction for contributions to your traditional IRA.

For 2011 and 2012, the maximum contribution to a traditional IRA is $5,000 (plus an additional $1,000 when you're over age 50). When you're an active participant in your employer's plan, how much of that you can deduct may be limited.

Not sure of your status?

Look at the middle box on line 13 of Form W-2 — the one labeled "Retirement plan." When the box is checked, you're considered an active participant.

The next question — should the box be checked? — can cause confusion for both employers who prepare Form W-2 and employees who use Form W-2 to file tax returns.

That's because the rules differ for different types of plans. For example, when you're eligible to participate in a defined benefit plan, you're an active participant even if you choose to not take part. Your eligibility is enough to trigger "active" status.

For 401(k) plans, you're an active participant when you elect to make contributions. If you decide not to contribute, you may still be considered an active participant, depending on what other amounts were allocated to your account during the year.

Please call us at (949) 453-1521 or email us at taxinfo@maxwellcompany.com if you need more information about the meaning of active participation. We're ready to help$$